What next for the price of gold?

While the outlook for the gold price remains positive, Blackrock Gold &
General fund manager Graham Birch thinks investors should be wary of losing
their perspective on it as part of a balanced portfolio.

The price of gold this year overtook platinum briefly for the first time in a quarter of a century, causing a spike in gold funds. But while the outlook for the gold price remains positive, Blackrock Gold & General fund manager Graham Birch thinks investors should be wary of losing their perspective on it as part of a balanced portfolio.

Gold has rallied strongly in recent months to reach around $970 an ounce last week, close to its peak of more than $1,000 an ounce in March last year, prompting a new spike in the performance of funds with exposure to the metal.

Ruffer Baker Steel Gold has produced a total return of 55pc since the start of November when the price of gold began to rise, while Investec leapt 71pc over the same period. Smith & Williamson Global Gold & Resources fund has seen even greater returns, growing 75pc.

Blackrock Gold & General fund has produced a total return of 70pc – the equivalent of turning £1,000 into £1,700 over the same period, but the story behind this stellar performance is more complicated than it first appears.

Fund manager Graham Birch says the collapse of Lehman Brothers may have had a significant effect on the gold price last year, the implications of which are still being felt.

"You could argue that in the autumn of last year gold shares were too cheap. The price of gold was hit very hard during the Lehman crisis – you have to remember that so many people had money tied up with Lehman, and they were forced to sell whatever they had – including gold – during that period just to raise liquidity."

Gold reached a low in October last year, and has begun to recover. Because gold is priced in dollars and the dollar has strengthened against the pound, British investors with exposure to the precious metal have done particularly well.

Mr Birch claims that the commodity will continue to perform well, as people continue to buy into gold as a way to diversify their portfolios, and hedge their bets against the outcome of the various fiscal and monetary stimuli which governments, here and in the United States especially, are using to reinvigorate the economy.

Unsurprisingly, Adrian Ash, head of research at online gold trading facility www.bullionvault.com, agrees. The cost of holding gold, in terms of risk and lost interest, as opposed to cash, has fallen. To all intents and purposes, neither asset now pays any interest, but there is much concern about the possibility that money itself will be worth less in five years should inflation kick in on the back of these economic stimuli.

Mr Ash said: "The stimulus package which is coming through in the United States, I think a lot of people are seeing as the government heading straight to the dollar printing press. The big question is, in 12 months' time how many more dollars will there be in the world, and how much more gold will there be?"

Mr Birch said: "At the moment conditions are deflationary – money buys more than it used to – but central banks have cut back interest rates to virtually nothing, and once they've done that the next step is to use what they call quantitative easing – which is effectively printing money.

"A lot of people who are buying gold at the moment think that there is some danger that this quantitative easing might end in tears. If you are investing in a 10-year bond, for example, the interest rate is lousy, and it's redeemed in sterling – and you don't know what the effect of this quantitative easing is going to be; it could be that it's inflationary, and if it is that means you don't know what the value of sterling will be when it comes to redemption."

This wariness should support further strength in the gold price, claimed Mr Birch, but investors should not see exposure to the asset as a panacea. He explained: "Gold is not really an asset that helps poor people to get rich. It's an asset that helps rich people to stay rich as part of a diversified portfolio. You must remember that the people who are buying gold don't mind if they lose a bit of money on the gold price, if they are properly diversified, because if the gold price begins to fall, that probably means the conventional equity market is beginning to recover so they're making a bit of money elsewhere."

Gold, and in particular funds that invest in gold equities, should not be viewed as an absolute return option – or an option offering positive returns in any market. A recovery in the stock market would quite likely see poor returns or losses for funds of this type, and Mr Birch said this was important to remember.

"To be honest we would not take much action at all if the gold price did begin to fall. It sounds bad but these are sector funds, so we do not shy away from giving exposure to that sector just because it's begun to fall. We would take it on the chin, and that might mean people sell out of the fund, but that's their choice – we are not making the decision to go for exposure to gold for them, so we would not make the decision to deprive them of it,'' he said.

"It just so happens that exposure to gold has provided a good absolute return in recent years, but our goal is simply to provide exposure to it, and hopefully add some value over the long term."